Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Xenon Pharmaceuticals Inc. (NASDAQ:XENE) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Xenon Pharmaceuticals Carry?
You can click the graphic below for the historical numbers, but it shows that as of June 2019 Xenon Pharmaceuticals had US$15.3m of debt, an increase on US$11.7m, over one year. However, it does have US$101.8m in cash offsetting this, leading to net cash of US$86.5m.
How Healthy Is Xenon Pharmaceuticals's Balance Sheet?
We can see from the most recent balance sheet that Xenon Pharmaceuticals had liabilities of US$9.33m falling due within a year, and liabilities of US$13.8m due beyond that. Offsetting these obligations, it had cash of US$101.8m as well as receivables valued at US$171.0k due within 12 months. So it actually has US$78.9m more liquid assets than total liabilities.
This surplus liquidity suggests that Xenon Pharmaceuticals's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this basis we think its balance sheet is strong like a sleek panther or even a proud lion. Simply put, the fact that Xenon Pharmaceuticals has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Xenon Pharmaceuticals can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Given its lack of meaningful operating revenue, Xenon Pharmaceuticals shareholders no doubt hope it can fund itself until it has a profitable product.
So How Risky Is Xenon Pharmaceuticals?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Xenon Pharmaceuticals lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through US$39m of cash and made a loss of US$42m. While this does make the company a bit risky, it's important to remember it has net cash of US$102m. That means it could keep spending at its current rate for more than two years. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Xenon Pharmaceuticals's profit, revenue, and operating cashflow have changed over the last few years.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.